A little drifting might make you a bundle

Mutual funds

November 10, 1996|By NEWSDAY

The mutual-fund style police seem to be out in force lately, but don't worry, it has nothing to do with the way you dress.

"Style" is a mutual-fund term that is supposed to tell investors how the fund will invest their money and what kind of securities the portfolio manager is buying.

If a fund says it is a large-cap value fund, you wouldn't expect it to be investing heavily in small technology companies. If it says it is a small-cap growth fund, don't look for blue chips. At least, that is the theory.

But then there is what is known as "style drift," which means that managers invest in securities other than those that investors think they are buying. It can lead to unexpectedly poor results sometimes, or spectacular performance the managers may not be able to replicate. It can also mean unexpected volatility that is confusing to investors.

"This is such an irony," said Steven Norwitz, vice president of T. Rowe Price. "We were always extremely conscious of making sure our funds stuck to their charters. We never considered it a competitive advantage but all of a sudden it has become one because many funds don't deliver that."

Now a number of funds are promising to bring to bear something called "institutional analysis" to make sure their funds do what they say they are supposed to do and to try to capture that marketing advantage.

Pension funds, for example, often invest on a strict asset-allocation basis, fund managers say, and use their own staffs or outside consultants to make sure that money managers strictly meet that criteria. "If you hired a small-cap manager, who is supposed to invest in companies with revenues under $100 million, that manager has to report to your analyst, who will check the portfolio on a periodic basis," said Steven Treadway, executive vice president of PIMCO Advisors, a Newport Beach, Calif., fund company that manages institutional money as well as retail mutual funds. "If the market gets tough and the manager drifts into the mid-cap range of $300 million to $500 million, they won't be able to get away with it," he said.

The pension fund may want 10 percent of its money in small-company securities, but by changing the investments, "the manager has destroyed that mix and now there may be only 8 percent in small cap," Treadway said. "And they can, and do, fire you as a money manager."

It is that type of analysis -- the pressure to stay on point -- that some funds want to bring to bear now because so much money is coming from pension plans. But the push is still at the adviser, not the investor, level, said Don Phillips, president of Morningstar Inc., the mutual-fund rating company. "More and more companies are touting institutional analysis because they are selling the fund to a third party and that third party says, 'We don't have time to police this,' " he said.

Often that third party is a 401(k) plan sponsor or a financial planner. Now planners and their clients may want more rigorous BTC expectations of dependability, Phillips said.

Financial planner Ron Roge of Centereach, New York, said style drift has been a problem. "In the past, we had some funds which had outstanding performance and we wondered why it was so good compared to its peer group," he said, quoting Morningstar's Phillips, who has said that funds that hit the top of the charts in their peer groups are often misclassified.

Roge named the Robertson Stephens Growth and Income Fund, normally a conservative-type investment, which did remarkably well a couple of years ago. "One-third of its assets were in gold stocks, not what I expected from a growth and income fund," Roge said. "But they made a timely bet on the gold market. The question is, do people who buy [conservative] growth and income funds expect one-third of the money to be in gold stocks?"

The fund cited most often as having style drift is Fidelity Magellan, the $53 billion behemoth that is larger than all but 15 mutual-fund companies. But who defines its style?

While Lipper Analytical Services Inc., which ranks mutual funds by category, lists Magellan as a growth fund, Fidelity says it is a capital-appreciation fund, which has a lot more leeway in investments. Morningstar, which has no capital-appreciation category, lists Magellan as a growth fund.

Magellan started 1995 as a diversified growth fund, then invested more than 40 percent of its assets in technology stocks. Then it sold the tech shares and jumped into government bonds.

New York financial planner Joel Isaacson said Magellan's shifts "made it a market-timing fund and not a true growth investment. With each manager change, it changes. It seems to have no mandate."

Robert Reynolds, president of Fidelity's Institutional Retirement Group, said Magellan is a capital-appreciation fund. "You should expect more volatility in a capital-appreciation fund, which is allowed to seek the best total return," he said.

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